President Joe Biden outlined on Wednesday the American Families Plan which includes efforts to increase taxation on high net-worth individuals in a manner that will gravely impact commercial real estate practices. The next time a property owner decides they want to leave assets to their children after passing away, they better make sure the children will be able to afford the taxes.
The 1031-Exchange, or like-kind exchanges, encourages property owners to sell off their buildings and move equity into a replacement asset without incurring further tax liabilities from the initial asset. The benefits of doing this is typically to help a property owner increase their cash-flow, getting them into a newer building, and the ability to defer taxes on capital gains. President Biden confirmed, in anticipation to his address to Congress tonight, that his administration plans to end 1031-exchange tax breaks for gains over $500,000.
Managing Director for Centennial Advisers asserted that, “numerous studies across a variety of political ideologies have found that increasing taxes on exchange transactions and capitals gains reduces transaction volume.”Justin White
Lower transaction volume means there is a direct threat to the supply and demand chain within commercial real estate, which Judith Bachman of Bachman Law Firm, happens to agree with White, in saying there are unintended consequences. Property owners who were thinking of relinquishing a property by entering in a 1031-exchange, will now likely hold for a much longer time.
Investors making more than a million a year should brace for an almost double tax rate on capital gains. This means a raise from the current 20% rate to 39.6% on capital gains. Income earners hitting the $400,000 a year threshold can expect a raise in taxes from 37% to 39.6%.
“Capital gains on inherited property are also under the gun. Current policy allows assets to be passed between generations on a “stepped-up” basis, automatically adjusting the value of inherited property and not enforcing any capital gains. Biden’s American Families Plan proposes eliminating this practice for gains in excess of $1M or $2.5M per couple “when combined with existing real estate exemptions.”
The Biden Administration highlights that the initiative will help prevent billions of dollars in capital income from “escaping taxation.”